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Exercise 4-5 is good

Future Value of a Single Payment


4.1 If you deposit $10,000 in a bank account that pays 10% interest annually, how much will be in your account after 5 years?
Solution
Amount = 10,000 rate p p = 10%
rate = 10% periods = 5
freq = 1 Maturity amount = 16,105.10
Horizon = 5 years

Future Value of a Single Payment


4.2 What is the present value of a security that will pay $5,000 in 20 years if securities of equal risk pay 7% annually?
Solution
Amount = 5,000 rate p p = 7%
rate = 7% periods = 20
freq = 1 Maturity amount = 19,348.42
Horizon = 20 years

Interest Rate on a Single Payment


4.3 Your parents will retire in 18 years. They currently have $250,000, and they think they will need $1 million at retirement.
What annual interest rate must they earn to reach their goal, assuming they don’t save any additional funds?
Solution
Amount = 250,000 rate p p = ? Rate =
rate = ? periods = 20
freq = 1 Maturity amount = 1,000,000
Horizon = 20 years

Number of Periods of a Single Payment


4.4 If you deposit money today in an account that pays 6.5% annual interest, how long will it take to double your money?
Solution
As per 72 rule, it is 11.07692 years
As per 69 rule, it is 11.21951 years
Arithmetic route 11.00674 years

Number of Periods for an Annuity


4.5 You have $42,180.53 in a brokerage account, and you plan to deposit an additional $5,000 at the end of every future year
You expect to earn 12% annually on the account. How many years will it take to reach your goal?
Solution
Present Future value
Value today 71869.0257 250,000 no. of yrs 11
Amount in brokerage a/c today 42,180.53
Balance amount is 29,688.50
PV of annuity is ₹ 29,688.50 5000
₹ 0.00
Hence, invt horizon is 11 years.
Future Value Ordinary Annuity versus Annuity Due
4.6 What is the future value of a 7%, 5-year ordinary annuity that pays $300 each year? If this were an annuity due, what wo
Solution
Amount = 300 rate p p = 7%
rate = 7% periods = 5
freq = 1 Maturity amount = 1,725.22
Horizon = 5 years FV of annuity due = 1,845.99

Present and Future Value of an Uneven Cash Flow Stream


4.7 An investment will pay $100 at the end of each of the next 3 years, $200 at the end of Year 4, $300 at the end of Year 5, a
If other investments of equal risk earn 8% annually, what is this investment’s present value? Its future value?
Solution
1 2 3 4 5 6
100 100 100 200 300 500
Discount factor 0.925926 0.85733882 0.793832 0.73503 0.6805832 0.63017

PV of investment = 923.98
FV of investment = 1,466.23

4.8 You want to buy a car, and a local bank will lend you $20,000. The loan would be fully amortized over 5 years (60 months
What is the monthly loan payment? What is the loan’s EFF%?
Solution
Amount = 20,000 rate p p = 1%
rate = 12% periods = 60
freq = 12 PVA factor = 44.96
Horizon = 5 years EMI = 444.89 dollars
EFF = 12.683%
ur account after 5 years?

ay 7% annually?

1 million at retirement.
onal funds?

7.1773%

double your money?

end of every future year until your account totals $250,000.


n annuity due, what would its future value be?

0 at the end of Year 5, and $500 at the end of Year 6.


uture value?

Interest rate = 8%

over 5 years (60 months), and the nominal interest rate would be 12%, with interest paid monthly.
4.9 Present and Future Values of Single Cash Flows for Different Periods
Find the following values, using the equations, and then work the problems using a financial calculator to check
are using a financial calculator, you can enter the known values and then press the appropriate key to find the un
you can “override” the variable that changes by simply entering a new value for it and then pressing the key for
procedure can be used in parts b and d, and in many other situations, to see how changes in input variables affe
a. An initial $500 compounded for 1 year at 6% 530.00
b. An initial $500 compounded for 2 years at 6% 561.80
c. The present value of $500 due in 1 year at a discount rate of 6% 471.70
d. The present value of $500 due in 2 years at a discount rate of 6% 445.00

4.10 Present and Future Values of Single Cash Flows for Different Interest Rates
Use both the TVM equations and a financial calculator to find the following values. See the Hint for Problem 4-9
a. An initial $500 compounded for 10 years at 6% 895.42
b. An initial $500 compounded for 10 years at 12% 1,552.92
c. The present value of $500 due in 10 years at a 6% discount rate 279.20
d. The present value of $500 due in 10 years at a 12% discount rate 160.99

4.11 Time for a lumpsum to double


To the closest year, how long will it take $200 to double if it is deposited and earns the following rates? [Notes: (
solved exactly with some financial calculators. For example, if you enter PV = −200, PMT = 0, FV = 400, and I = 7 i
part a. The correct answer is 10.2448 years, which rounds to 10, but the calculator rounds up. However, the HP1
a. 7% 10 years
b. 10% 7 years
c. 18% 4 years
d. 100% 1 years

4.12 Future value of an annuity


Find the future value of the following annuities. The first payment in these annuities is made at the end of Year 1
Problem 4-9. Also, note that you can leave values in the TVM register, switch to Begin Mode, press FV, and find t
a. $400 per year for 10 years at 10%
b. $200 per year for 5 years at 5%
c. $400 per year for 5 years at 0%
d. Now rework parts a, b, and c assuming that payments are made at the beginning of each year; that is, they ar
FVA FVAD
a. $400 per year for 10 years at 10% $6,375 $7,012 10.0%
b. $200 per year for 5 years at 5% $1,105 $1,160 5.0%
c. $400 per year for 5 years at 0% $2,000 $2,000 0.0%

Present value of an annuity


4.13 Find the present value of the following ordinary annuities (see the Notes to Problem 4-12).
a. $400 per year for 10 years at 10%
b. $200 per year for 5 years at 5%
c. $400 per year for 5 years at 0%
d. Now rework parts a, b, and c assuming that payments are made at the beginning of each year; that is, they ar
PVA PVAD
a. $400 per year for 10 years at 10% $2,458 $2,704 10.0%
b. $200 per year for 5 years at 5% $866 $909 5.0%
c. $400 per year for 5 years at 0% $2,000 $2,000 0.0%

Uneven Cash Flow Stream


4.14 Find the present values of the following cash flow streams. The appropriate interest rate is 8%. (Hint: It is fairly e
cash flows. However, if you have a financial calculator, read the section of the manual that describes how to ente
a little time, but the investment will pay huge dividends throughout the course. Note that, when working with th
Note also that it is quite easy to work the problem with Excel, using procedures described in the Chapter 4 Tool K
Year Cash stream A Cash stream B
1 100 300
2 400 400
3 400 400
4 400 400
5 300 300
SOLUTION
disc rate = 8% disc rate =
Year disc factor CF of A PVCF of A CF of B PVCF of B Year
1 0.9259 100 92.59 300 277.78 1
2 0.8573 400 342.94 400 342.94 2
3 0.7938 400 317.53 400 317.53 3
4 0.7350 400 294.01 400 294.01 4
5 0.6806 300 204.17 300 204.17 5
1,251.25 1,436.43
The sooner the cashflow, the better for investors. When discount rate is zero, the

4.15 Effective Rate of Interest


Find the interest rate (or rates of return) in each of the following situations.
a. You borrow $700 and promise to pay back $749 at the end of 1 year.
b. You lend $700 and receive a promise to be paid $749 at the end of 1 year.
c. You borrow $85,000 and promise to pay back $201,229 at the end of 10 years.
d. You borrow $9,000 and promise to make payments of $2,684.80 at the end of each of the next 5 years.

4.16 Future Value for Various Compounding Periods


Find the amount to which $500 will grow under each of the following conditions.
a. 12% compounded annually for 5 years 881.17
b. 12% compounded semiannually for 5 years 895.42
c. 12% compounded quarterly for 5 years 903.06
d. 12% compounded monthly for 5 years 908.35

4.17 Present Value for Various Compounding Periods


Find the present value of $500 due in the future under each of the following conditions.
a. 12% nominal rate, semiannual compounding, discounted back 5 years 279.20
b. 12% nominal rate, quarterly compounding, discounted back 5 years 276.84
c. 12% nominal rate, monthly compounding, discounted back 1 year 275.22
4.18 Future Value of an annuity for Various Compounding Periods
Find the future values of the following ordinary annuities.
a. FV of $400 each 6 months for 5 years at a nominal rate of 12%, compounded semiannually
b. FV of $200 each 3 months for 5 years at a nominal rate of 12%, compounded quarterly
c. The annuities described in parts a and b have the same total amount of money paid into them
during the 5-year period, and both earn interest at the same nominal rate, yet the annuity in
part b earns $101.75 more than the one in part a over the 5 years. Why does this occur?

4.19 Effective versus nominal interest rates


Universal Bank pays 7% interest, compounded annually, on time deposits. Regional Bank pays 6% interest, comp
a. Based on effective interest rates, in which bank would you prefer to deposit your money?
b. Could your choice of banks be influenced by the fact that you might want to withdraw your funds during the y
answering this question, assume that funds must be left on deposit during an entire compounding period in o

Univ bank Regn Bank


Nominal interest rate 7% 6%
compounding frequency 1 4
Period rate 7.00% 1.50%
Effective annual rate (EAR) 7.0000% 6.1364% <-- answer to part(A)

4.20 Amortization schedule


a. Set up an amortization schedule for a $25,000 loan to be repaid in equal installments at the end of each of the
b. How large must each annual payment be if the loan is for $50,000? Assume that the interest rate remains at 1
c. How large must each payment be if the loan is for $50,000, the interest rate is 10%, and the loan is paid off in
This loan is for the same amount as the loan in part b, but the payments are spread out over twice as many pe

0 1 2 3 4 5
CF 6594.937 6594.937 6594.937 6594.937 6594.937
DF at 10% 0.9091 0.8264 0.7513 0.6830 0.6209
PVCF 25,000.00 5,995.40 5,450.36 4,954.87 4,504.43 4,094.94

4.21 Growth rates


Sales for Hanebury Corporation’s just-ended year were $12 million. Sales were $6 million 5 years earlier.
a. At what rate did sales grow? 14.87%
b. Suppose someone calculated the sales growth for Hanebury in part a as follows: “Sales doubled in 5 years. Th
estimated growth rate of 20% per year.” Explain what is wrong with this calculation.

4.22 Expected rate of return


Washington-Pacific invested $4 million to buy a tract of land and plant some young pine trees. The trees can be
an expected price of $8 million. What is W-P’s expected rate of return? 7.1773%
4.23 Expected rate of return
A mortgage company offers to lend you $85,000; the loan calls for payments of $8,273.59 at the end of each yea
Solution
Loan amount 85,000
Annual instalment amount 8,273.59
Loan period 30 years
PVA factor 10.273654
Implied interest rate 9.00% ($0.00)

4.24 Required Lump-Sum payment


To complete your last year in business school and then go through law school, you will need $10,000 per year fo
first $10,000 one year from today). Your uncle offers to put you through school, and he will deposit in a bank pay
4 payments of $10,000 each. His deposit will be made today.
a. How large must the deposit be? 33,872
b. How much will be in the account immediately after you make the first withdrawal? After the last withdrawal?

4.25 Repaying a loan


While Mary Corens was a student at the University of Tennessee, she borrowed $12,000 in student loans at an a
long (to the nearest year) will it take her to repay the loan? 14.771405 0.00

4.26 Reaching a financial goal


You need to accumulate $10,000. To do so, you plan to make deposits of $1,250 per year— with the first paymen
Your last deposit will be less than $1,250 if less is needed to round out to $10,000. How many years will it take y
Solution:
Interest rate on savings 12%
Instalment amount 1,250
Savings goal 10,000
Type Annuity due
No. of years to invest 5.4623994 0.9999841
Amount of the last deposit 35
Note: You need to use FVAD to arrive at the amount at end of year 5. $8,893.99

4.27 Present value of a perpetuity


What is the present value of a perpetuity of $100 per year if the appropriate discount rate is 7%?
If interest rates in general were to double and the appropriate discount rate rose to 14%, what would happen to
Solution
Discount rate 7% 14%
Instalment amount 100 100
Number of years ordinary perpetuity ordinary perpetuity
PV of perpetuity = 1,428.57 714.29

4.28 PV and EAR


Assume that you inherited some money. A friend of yours is working as an unpaid intern at a local brokerage firm
payment at the end of each of the next 4 years) plus an extra payment of $1,000 at the end of Year 4. Your friend
money is now invested in a bank that pays an 8% nominal (quoted) interest rate but with quarterly compounding
bank deposit, so your required effective annual rate of return on the securities is the same as that on your bank
they are a good investment. What is their present value to you? 893.16

Bank FD
Time to maturity 4
Nominal interest rate 8%
Frequency of compounding 4
Period rate 2.00%
Effective annual rate 8.2432%
Fair price of the instrument 893.16 viz. you are overpaying by 6.84 dollars.

4.29 Loan amortization


Assume that your aunt sold her house on December 31, and to help close the sale she took a second mortgage i
quoted (or nominal) interest rate of 10%; it calls for payments every 6 months, beginning on June 30, and is to b
the IRS and the person who bought the house about the interest that was included in the two payments made d
deduction to the buyer of the house.) To the closest dollar, what is the total amount of interest that was paid du
Solution
Loan amount 10,000
Nominal rate 10%
Number of periods 2
Period rate 0.05
No. of instalments 20
Instalment amount 802.42587
Interest in 1st SAI 500
Interest in 2nd SAI 484.87871
Annual interst in yr 1 984.88
financial calculator to check your answers. Disregard rounding differences. (Hint: If you
appropriate key to find the unknown variable. Then, without clearing the TVM register,
nd then pressing the key for the unknown variable to obtain the second answer. This
hanges in input variables affect the output variable.)

See the Hint for Problem 4-9.

the following rates? [Notes: (1) See the Hint for Problem 4-9. (2) This problem cannot be
PMT = 0, FV = 400, and I = 7 in an HP-12C and then press the N key, you will get 11 years for
rounds up. However, the HP10BII gives the exact answer.]

es is made at the end of Year 1, so they are ordinary annuities. (Notes: See the Hint to
gin Mode, press FV, and find the FV of the annuity due.)

g of each year; that is, they are annuities due.

g of each year; that is, they are annuities due.


t rate is 8%. (Hint: It is fairly easy to work this problem dealing with the individual
ual that describes how to enter cash flows such as the ones in this problem. This will take
te that, when working with the calculator’s cash flow register, you must enter CF0 = 0.
scribed in the Chapter 4 Tool Kit.)

0%
disc factor CF of A PVCF of A CF of B PVCF of B
1.0000 100 100 300 300
1.0000 400 400 400 400
1.0000 400 400 400 400
1.0000 400 400 400 400
1.0000 300 300 300 300
1,600 1,800
hen discount rate is zero, the order does not make any difference for investor.

PVCF FVCF / EAI Years EAIR


700 749 1 7.00%
700 749 1 7.00%
85,000 201,229 10 9.00%
ach of the next 5 years. 9,000 2,684.8 5 15.00% ($0.13)

PVCF rate Years freq EAIR FV factor Amount


500 12% 5 1 12.00% 1.7623 881.17
500 12% 5 2 12.36% 1.7908 895.42
500 12% 5 4 12.55% 1.8061 903.06
500 12% 5 12 12.68% 1.8167 908.35

FVCF rate Years freq EAIR PV factor Amount


500 12% 5 2 12.36% 0.5584 279.20
500 12% 5 4 12.55% 0.5537 276.84
500 12% 5 12 12.68% 0.5504 275.22
CF freq Nom rate Years EAR FVIFA
5,272.32 400 2 12% 5 12.360% 13.1808
5,374.07 200 4 12% 5 12.551% 26.8704
aid into them
e annuity in
EAR is higher in part (b)

Bank pays 6% interest, compounded quarterly.

hdraw your funds during the year as opposed to at the end of the year? In
ntire compounding period in order for you to receive any interest. NO

ents at the end of each of the next 5 years. The interest rate is 10%.
the interest rate remains at 10% and that the loan is still paid off over 5 years. 13,189.9
%, and the loan is paid off in equal installments at the end of each of the next 10 years? 8,137.27
ad out over twice as many periods. Why are these payments not half as large as the payments on the loan in part b?

Amortization schedule for $25,000 loan at 10% p.a. with 5 year maturity
Principal Interest exp Principal Instalmen Principal
Year at BoY for the yr plus int t paid at EoY
1 25,000 2,500 27,500 6,595 20,905
2 20,905 2,091 22,996 6,595 16,401
3 16,401 1,640 18,041 6,595 11,446
4 11,446 1,145 12,590 6,595 5,995
5 5,995 600 6,595 6,595 0

million 5 years earlier.

“Sales doubled in 5 years. This represents a growth of 100% in 5 years; dividing 100% by 5 results in an

pine trees. The trees can be harvested in 10 years, at which time W-P plans to sell the forest at
273.59 at the end of each year for 30 years. What interest rate is the mortgage company charging you?

will need $10,000 per year for 4 years, starting next year (that is, you will need to withdraw the
d he will deposit in a bank paying 7% interest a sum of money that is sufficient to provide the

al? After the last withdrawal? 26,243

2,000 in student loans at an annual interest rate of 9%. If Mary repays $1,500 per year, then how

r year— with the first payment being made a year from today—into a bank account that pays 12% annual interest.
How many years will it take you to reach your $10,000 goal, and how large will the last deposit be? 5.462399
Amount
in saving Interest exp Principal Amount Total at
Year a/c for the yr plus int deposited eoY
1 1,250 150 1,400 1,250 2,650
2 2,650 318 2,968 1,250 4,218
3 4,218 506 4,724 1,250 5,974
4 5,974 717 6,691 1,250 7,941
5 7,941 953 8,894 1,250 10,144
6 10,144 1,217 11,361

unt rate is 7%? 1,428.57


14%, what would happen to the present value of the perpetuity? 714.29

ntern at a local brokerage firm, and her boss is selling securities that call for 4 payments of $50 (1
the end of Year 4. Your friend says she can get you some of these securities at a cost of $900 each. Your
t with quarterly compounding. You regard the securities as being just as safe, and as liquid, as your
e same as that on your bank deposit. You must calculate the value of the securities to decide whether

0 1 2 3 4
CF 50 50 50 1050
DF at 8.2432% 0.9238 0.8535 0.7885 0.7284
PVCF 893.16 46.19 42.67 39.42 764.87

she took a second mortgage in the amount of $10,000 as part of the payment. The mortgage has a
nning on June 30, and is to be amortized over 10 years. Now, 1 year later, your aunt must inform
in the two payments made during the year. (This interest will be income to your aunt and a
t of interest that was paid during the first year? 984.88
Interest exp
Principal for the Principal Instalmen Principal
Period at BoP period plus int t received at EoP
1 10,000 500.00 10,500 802 9,698
2 9,698 484.88 10,182 802 9,380
3 9,380 469.00 9,849 802 9,047
4 9,047 452.33 9,499 802 8,697
5 8,697 434.83 9,131 802 8,329
6 8,329 416.45 8,745 802 7,943
7 7,943 397.15 8,340 802 7,538
8 7,538 376.88 7,915 802 7,112
9 7,112 355.61 7,468 802 6,665
10 6,665 333.26 6,999 802 6,196
11 6,196 309.81 6,506 802 5,704
12 5,704 285.18 5,989 802 5,186
13 5,186 259.31 5,446 802 4,643
14 4,643 232.16 4,875 802 4,073
15 4,073 203.64 4,277 802 3,474
16 3,474 173.70 3,648 802 2,845
17 2,845 142.27 2,988 802 2,185
18 2,185 109.26 2,294 802 1,492
19 1,492 74.60 1,567 802 764
20 764 38.21 802 802 0
9.00%

years
Loan Amortization
4.30 Your company is planning to borrow $1 million on a 5-year, 15%, annual payment, fully amortized term loan.
What fraction of the payment made at the end of the second year will represent repayment of principal?
Solution
Loan amount = 1,000,000
Loan period = 5 years Year Loan BoY Interest
freq of instalments = 1 1 1,000,000 150,000
Nominal rate = 15% 2 851,684 127,753
Annual instalment = 298,316 3 681,122 102,168
4 484,974 72,746
Fraction of 2nd yr payment that is principa 57.18% 5 259,405 38,911
ully amortized term loan.
payment of principal?

Total RepaymentPrincipal portion


1,150,000 298,316 148,316
979,437 298,316 170,563
783,290 298,316 196,147
557,720 298,316 225,569
298,316 298,316 259,405
Nonannual Compounding
a. It is now January 1. You plan to make a total of 5 deposits of $100 each, one every 6 months, with the first pay
The bank pays a nominal interest rate of 12% but uses semiannual compounding. You plan to leave the mone
How much will be in your account after 10 years?
b. You must make a payment of $1,432.02 in 10 years. To get the money for this payment, you will make 5 equal
in a bank that pays a nominal interest rate of 12% with quarterly compounding. How large must each of the 5
Solution to part (a)
nominal rate = 12% period rate = 0.06
frequency = 2 PVAD = ₹ 446.51
No. of deposits = 5 Maturity amount = 1432.02
Deposit amount = 100.00
Type annuity due
Invt horizon = 10 years
Solution to part (b)
nominal rate = 12% period rate = 0.03
frequency = 4 PVAD = ₹ 4.72
No. of deposits = 5 Maturity amount = 15.38735
Deposit amount = 1.00 Target amount = 1,432.02
Type annuity due Deposit instalment = 93.06
Invt horizon = 10 years
y 6 months, with the first payment being made today.
You plan to leave the money in the bank for 10 years.

ment, you will make 5 equal deposits, beginning today and for the following 4 quarters,
How large must each of the 5 payments be?
Nominal Rate of Return
Anne Lockwood, manager of Oaks Mall Jewelry, wants to sell on credit, giving customers 3 months to pay.
However, Anne will have to borrow from her bank to carry the accounts receivable. The bank will charge a nominal r
Anne wants to quote a nominal rate to her customers (all of whom are expected to pay on time) that will exactly offs
What nominal annual rate should she quote to her credit customers?
Solution
Nominal rate = 15% freq required = 4
frequency = 12 Period rate, then 0.037971
Period rate = 0.0125 Nominal to be quoted 15.19%
Annual maturity amt 1.160755
mers 3 months to pay.
The bank will charge a nominal rate of 15% and will compound monthly.
pay on time) that will exactly offset her financing costs.
Required Annuity Payments
Assume that your father is now 50 years old, plans to retire in 10 years, and expects to live for 25 years after he retires—th
He wants his first retirement payment to have the same purchasing power at the time he retires as $40,000 has today.
He wants all of his subsequent retirement payments to be equal to his first retirement payment. (Do not let the retirement
Your father realizes that if inflation occurs the real value of his retirement income will decline year by year after he retires

His retirement income will begin the day he retires, 10 years from today, and he will then receive 24 additional annual pay
Inflation is expected to be 5% per year from today forward. He currently has $100,000 saved and expects to earn a return
To the nearest dollar, how much must he save during each of the next 10 years (with equal deposits being made at the end
(Note: Neither the amount he saves nor the amount he withdraws upon retirement is a growing annuity.)
Solution
Investment period = 10 years Annuity amount = 65,155.79
Reaping period = 25 years PV of annuity due = ₹ 751,165
Already saved = 100,000 PV today = ₹ 347,935
Inflation rate = 5% PV of deposit instalments ₹ 247,935
Earning rate till he retire 8% PVA factor = ₹ 6.71
Annual instalment = ₹ 36,949.61
years after he retires—that is, until age 85.
as $40,000 has today.
(Do not let the retirement payments grow with inflation:
ar by year after he retires.)

24 additional annual payments.


d expects to earn a return on his savings of 8% per year with annual compounding.
sits being made at the end of each year, beginning a year from today) to meet his retirement goal?
8%
5%
Year Deposit BoYIncome deposit withdrawl
1 100,000 8000 ₹ 36,950
2 144,950 ₹ 11,596 ₹ 36,950
3 193,495 ₹ 15,480 ₹ 36,950
4 245,924 ₹ 19,674 ₹ 36,950
5 302,548 ₹ 24,204 ₹ 36,950
6 363,701 ₹ 29,096 ₹ 36,950
7 429,747 ₹ 34,380 ₹ 36,950
8 501,077 ₹ 40,086 ₹ 36,950
9 578,112 ₹ 46,249 ₹ 36,950
10 661,311 ₹ 52,905 ₹ 36,950 ₹ -65,156
11 686,010 ₹ 54,881 ₹ -65,156
12 675,734 ₹ 54,059 ₹ -65,156
13 664,637 ₹ 53,171 ₹ -65,156
14 652,653 ₹ 52,212 ₹ -65,156
15 639,709 ₹ 51,177 ₹ -65,156
16 625,730 ₹ 50,058 ₹ -65,156
17 610,633 ₹ 48,851 ₹ -65,156
18 594,327 ₹ 47,546 ₹ -65,156
19 576,718 ₹ 46,137 ₹ -65,156
20 557,700 ₹ 44,616 ₹ -65,156
21 537,160 ₹ 42,973 ₹ -65,156
22 514,977 ₹ 41,198 ₹ -65,156
23 491,019 ₹ 39,282 ₹ -65,156
24 465,145 ₹ 37,212 ₹ -65,156
25 437,201 ₹ 34,976 ₹ -65,156
26 407,021 ₹ 32,562 ₹ -65,156
27 374,427 ₹ 29,954 ₹ -65,156
28 339,225 ₹ 27,138 ₹ -65,156
29 301,207 ₹ 24,097 ₹ -65,156
30 260,148 ₹ 20,812 ₹ -65,156
31 215,804 ₹ 17,264 ₹ -65,156
32 167,913 ₹ 13,433 ₹ -65,156
33 116,190 ₹ 9,295 ₹ -65,156
34 60,329 ₹ 4,826 ₹ -65,156
35 0
Growing Annuity Payments
You want to accumulate $1 million by your retirement date, which is 25 years from now. You will make 25 depos
The bank pays 8% interest, compounded annually.
You expect to receive annual raises of 3%, which will offset inflation, and you will let the amount you deposit eac
(i.e., your second deposit will be 3% greater than your first, the third will be 3% greater than the second, etc.).
How much must your first deposit be if you are to meet your goal?
Solution
Let the initial deposit 1
growth rate in deposi 3%
discount rate = 8%
Investment period = 25 years
Type annuity due

PV of 25-year annuity due growing at 3% = 14.99625216


Sum at maturity = 1,000,000
PV today at 8% = 146017.9
Hence, initial deposit amount = 9736.96

Alternative way to workout the first amount


Real value of $1 mil at year 25 = 477,605.57
Real discount rate = 4.8544%
Real value of $1 mil today will be = 146,017.90
Present value of annuity due today = 14.9963
Hence, initial deposit amount = 9,736.96
You will make 25 deposits in your bank, with the first occurring today.

amount you deposit each year also grow by 3%


than the second, etc.).

Year Opening Deposit BoYInterest Total


1 - 9,737 779 10,516
2 10,516 10,029 1,644 22,189
3 22,189 10,330 2,601 35,120
4 35,120 10,640 3,661 49,421
5 49,421 10,959 4,830 65,210
6 65,210 11,288 6,120 82,618
7 82,618 11,626 7,540 101,784
8 101,784 11,975 9,101 122,860
9 122,860 12,334 10,816 146,010
10 146,010 12,705 12,697 171,411
11 171,411 13,086 14,760 199,257
12 199,257 13,478 17,019 229,754
13 229,754 13,883 19,491 263,127
14 263,127 14,299 22,194 299,620
15 299,620 14,728 25,148 339,496
16 339,496 15,170 28,373 383,039
17 383,039 15,625 31,893 430,557
18 430,557 16,094 35,732 482,383
19 482,383 16,577 39,917 538,877
20 538,877 17,074 44,476 600,426
21 600,426 17,586 49,441 667,453
22 667,453 18,114 54,845 740,412
23 740,412 18,657 60,726 819,795
24 819,795 19,217 67,121 906,133
25 906,133 19,793 74,074 1,000,000